August 21, 2013
In B2B pricing, rebates are a pricing best practice. Why? Because if you are not using rebates, you are probably giving customers larger discounts than they deserve.
When quoting prices, many sellers in B2B consider the volume size associated with the opportunity, deal, quote, or contract. For example, if a customer says they plan to buy 100 tons of LDPE (low density polyethylene), the seller will quote a lower price per pound than if the opportunity is for only 22 tons. Or, similarly, 100 parts vs. 5,000 parts.
This practice, common across a number of industries, is called volume based pricing or volume based discount guidelines. The commercial rationale for the seller is that larger volumes create production, sales, and logistics efficiencies, which can be passed onto the customer as larger discounts.
Big Hat, No Cattle
But, what happens when the customer who promised to buy 100 tons only buys 22 tons? Or when a price quote for 5,000 parts generates an order that turns out to be only 800 parts? At Vendavo, we refer to a customer that consistently over-commits and under-delivers as “Big Hat, No Cattle.”
In these situations of “overpromised volume,” the seller likely cannot retroactively change the customer’s price. And, because the realized price does not comply with the volume sold, the customer has, in effect, extracted a noncompliant price. For Six Sigma practitioners, this is known as a “defect.” And, the defect has cost the seller money. Rebates are employed to limit the gap between promised and actual behavior.
The Cost of a Broken Promise
Rebates are used to price on “actual” rather than “promised” purchases. Instead of granting a discount up front and accepting the responsibility to audit sales to the customer, or worse, not auditing, the seller grants a discount only for actual volume, thereby passing the risk of non-compliance to the buyer.
In addition to pricing on actual rather than promised volumes, rebates can be refined to drive specific customer behavior such as growth, retention, product mix improvement, or purchases of bundled offers. Like other forms of discounts employed to modify behavior, rebates allow sellers to communicate to customers how they can receive the lowest price. The burden of realizing the lowest price, then, falls to the customer with the rebate granted only for achieving the specified outcome.
Check back next week for an overview of common rebate types and use cases in Part 2 of this series!